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HEWA > SEC Filings for HEWA > Form 10-K on 23-Jul-2013All Recent SEC Filings

Show all filings for HEALTHWAREHOUSE.COM, INC.

Form 10-K for HEALTHWAREHOUSE.COM, INC.


23-Jul-2013

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operation.

The following discussion of results of operations and financial condition is based upon, and should be read in conjunction with, our consolidated financial statements and accompanying notes thereto, included elsewhere in this Annual Report. This discussion contains forward-looking statements. Actual results could differ materially from the results discussed in the forward-looking statements. Reference is made to "Information Regarding Forward-Looking Statements" and Item 1A "Risk Factors" for a discussion of some of the uncertainties, risks and assumptions associated with these statements.

Overview

We are a VIPPS accredited retail mail-order pharmacy and healthcare e-commerce company that sells discounted generic and brand name prescription drugs, as well as, over-the-counter (OTC) medical products and surgical supplies. Our web addresses are http://www.healthwarehouse.com and http://www.hocks.com. At present, we sell:

? a range of prescription drugs (we are licensed as a mail-order pharmacy for sales to 50 states and the District of Columbia);

? diabetic supplies including glucometers, lancets, syringes and test strips;

? OTC medications covering a range of conditions from allergy and sinus to pain and fever to smoking cessation aids;

? home medical supplies including incontinence supplies, first aid kits and mobility aids; and

? diet and nutritional products including supplements, weight loss aids, and vitamins and minerals.

Our objectives are to make the pharmaceutical supply chain more efficient and to pass the savings on to the consumer. We are becoming known by consumers as a convenient, reliable, discount provider of over-the-counter and prescription medications and products. We intend to continue to expand our product line as our business grows. For additional information see Part I, Item 1 "Business" on page 3.

Results of Operations

Year Ended December 31, 2012 Compared to Year Ended December 31, 2011.

                                     Year Ended                         Year Ended
                                    December 31,         % of          December 31,         % of
                                        2012            Revenue            2011            Revenue

Net sales                           $  11,081,429           100.0 %    $  10,363,293           100.0 %
Cost of sales                           5,913,977            53.4 %        5,845,525            56.4 %
Gross profit                            5,167,452            46.6 %        4,517,768            43.6 %
Selling, general & administrative
expenses                                9,261,523            83.4 %        9,246,431            89.2 %
Impairment of intangible assets           396,298             3.6 %                -             0.0 %
Loss from operations                   (4,490,369 )         (40.5 )%      (4,728,663 )         (45.6 )%
Gain on accounts payable
settlement                                      -             0.0 %           32,210             0.3 %
Interest income                             6,103             0.1 %            4,166             0.0 %
Interest expense                       (1,095,881 )          (9.8 )%      (1,021,112 )          (9.9 )%
Other income                                5,372             0.0 %            1,200             0.0 %
Net loss                            $  (5,574,775 )         (50.3 )%   $  (5,712,199 )         (55.1 )%

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Net Sales

Net sales for the year ended December 31, 2012 grew to $11,081,429 from $10,363,293 for the year ended December 31, 2011, an increase of $718,136 or 6.9%, as a result of an increase in prescription drug sales of approximately $1,600,000 offset by a reduction in OTC sales of approximately $788,000. During 2012, due to financial constraints, we allocated more funds toward the higher margin prescription drug inventory which has more loyal customers and we allocated less funds toward over-the-counter inventory.

Costs and Expenses

Cost of Sales and Gross Margin

Cost of sales were $5,913,977 for the year ended December 31, 2012 as compared to $5,845,525 for the year ended December 31, 2011, an increase of $68,452 or 1.2%, primarily as a result of growth in order volume. Gross margin percentage increased year-over-year from 43.6% for the year ended December 31, 2011 to 46.6% for the year ended December 31, 2012, primarily due to the shift in product mix to higher margin prescription drugs from approximately 47.8% of net sales during the year ended December 31, 2011 to 59.2% of net sales in the year ended December 31, 2012. We believe that the change in product mix with prescription drugs increasing will continue to improve margins during 2013 and our marketing efforts have focused on this shift.

Impairment of Intangible Assets

During 2012 we recorded a $396,298 impairment charge associated with the customer relationship intangible assets which resulted from the acquisition of Hocks.com on February 14, 2011. Our Hocks divisions experienced a significant and sustained decline during the year ended December 31, 2012 and our review of the future undiscounted cash flows led us to conclude that the intangible assets should be written off.

Selling, General and Administrative Expenses

Selling, general and administrative expenses totaled $9,261,523 for the year ended December 31, 2012 compared to $9,246,431 for the year ended December 31, 2011, an increase of $15,092 or 0.2%. The year ended December 31, 2012 expense increases included (a) expanded recognition of depreciation and amortization expense of $103,306 (primarily due to recording a higher 2012 charge for assets acquired during 2011); (b) higher legal fees of $382,629 (primarily due to increased litigation); (c) contract labor expense of $225,088 (primarily due to management transition); (d) health insurance expense of $156,821 (primarily due to increase in headcount) and (e) accounting fees of $170,121 (primarily due to the audit and financial reporting costs relating to certain items identified by the Company's auditors (see Item 1 - Recent Developments)). The increases were partially offset by reduction of meals and entertainment expenses of $182,907 and travel related expenses of $65,291. We expect that our selling, general and administrative expenses, specifically legal and professional fees, will decrease as we improve our internal controls over financial reporting and we resolve our outstanding litigation.

Other Income (Expense)

Interest expense increased from $1,021,112 in the year ended December 31, 2011 to $1,095,881 in the year ended December 31, 2012, an increase of $74,769 or 7.3%, due to the contractual loan interest expense of $288,116 for the year ended December 31, 2012 compared to $131,927 for the year ended December 31, 2011, an increase of $156,189. The increase is due to the increases in the average outstanding balances of our convertible notes payable and notes payable. This was offset by a decrease of $81,419 in non-cash accretion of debt discount for the year ended December 31, 2012 to $807,766 compared to $889,185 for the year ended December 31, 2011, as a result of certain convertible notes and notes payable maturing in 2012.

Off-Balance Sheet Arrangements

We have not entered into any transactions with unconsolidated entities in which we have financial guarantees, subordinated retained interests, derivative instruments or other contingent arrangements that expose us to material continuing risks, contingent liabilities or any other obligations under a variable interest in an unconsolidated entity that provides us with financing, liquidity, market risk or credit risk support.

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Impact of Inflation

We believe that inflation has not had a material impact on our results of operations for the years ended December 31, 2012 and 2011. We cannot assure you that future inflation will not have an adverse impact on our operating results and financial condition.

Liquidity and Capital Resources

Since inception, we have financed operations primarily through debt and equity financings and advances from stockholders. As of December 31, 2012 we had a working capital deficiency of $8,395,171 and an accumulated deficit of $20,828,674. During the year ended December 31, 2012, we incurred a net loss of $5,574,775 and used $947,911 of cash in operating activities. These conditions raise substantial doubt about our ability to continue as a going concern.

Subsequent to December 31, 2012, we (a) raised $3,501,975 in an equity financing, substantially all of which was raised in February 2013, and substantially all of the proceeds were used to satisfy the our obligations under our notes and convertible notes totaling $3,000,000, which were previously in default; (b) raised $500,000 in a debt financing; (c) converted $833,000 of obligations to related parties into equity instruments; (c) received a Notice of Redemption related to our Series C Redeemable Preferred Stock aggregating $1,000,000; and (d) continued to incur net losses, use cash in operating activities and experience cash and working capital constraints. As a result of receiving the Notice of Redemption, we must now apply all of our assets to redemption of the Series C Preferred Stock and to no other corporate purpose, except to the extent prohibited by Delaware law governing distributions to stockholders (we are not permitted to utilize those assets required to pay our debts as they come due and those assets required to continue as a going concern towards redemption).

We recognize that we will need to raise additional capital in order to fund operations, meet our payment obligations, including the redemption of the Series C Redeemable Preferred Stock, and execute our business plan. There is no assurance that additional financing will be available when needed or that management will be able to obtain financing on terms acceptable to us and whether we will become profitable and generate positive operating cash flow. If we are unable to raise sufficient additional funds, we will have to develop and implement a plan to further extend payables, extend note repayments, extend the preferred stock redemption and reduce overhead until sufficient additional capital is raised to support further operations. There can be no assurance that such a plan will be successful. If we are unable to obtain financing on a timely basis, we could be forced to sell our assets, discontinue our operations and/or seek reorganization under the U.S. bankruptcy code.

Accordingly, the accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, which contemplate our continuation as a going concern and the realization of assets and the satisfaction of liabilities in the normal course of business. The carrying amounts of assets and liabilities presented in the consolidated financial statements do not necessarily represent realizable or settlement values. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.

As of December 31, 2012 and 2011, the Company had cash on hand of $0 and $41, respectively. Our cash flow from operating, investing and financing activities during this period were as follows:

For the year ended December 31, 2012, cash flows included net cash used in operating activities of $947,911. This amount included a decrease in operating cash related to a net loss of $5,574,775, partially offset by aggregate non-cash adjustments of $2,275,103, which includes stock-based compensation, depreciation and amortization, debt discount amortization and intangible asset impairment, plus aggregate cash provided by changes in operating assets and liabilities of $2,351,761 (primarily a result of extending payables due to cash constraints). For the year ended December 31, 2011, cash flows included net cash used in operating activities of $2,560,013. This amount included a decrease in operating cash related to a net loss of $5,712,199, partially offset by aggregate non-cash adjustments of $2,741,593, which includes stock-based compensation, depreciation and amortization, debt discount amortization and provisions for doubtful accounts and obsolete inventory, plus aggregate cash provided by changes in operating assets and liabilities of $410,593 (primarily a result of extending payables due to cash constraints).

For the year ended December 31, 2012, net cash used in investing activities was $710,263 due to placing cash provided by investors into escrow (restricted cash) net of $139,739 repayments of employee advances. For the year ended December 31, 2011, net cash used in investing activities was $883,868, primarily due to the acquisition of equipment and leasehold improvements of $452,322, $200,000 of cash used to pay the sellers in the Hocks.com acquisition and $247,278 of employee advances.

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For the year ended December 31, 2012, net cash provided by financing activities was $1,658,134. Cash was provided primarily by $850,002 of proceeds from a pending offering, proceeds from notes and other advances - related parties of $605,000 of which $293,812 was repaid during 2012, and the sale of 116,668 shares of our Common Stock for cash proceeds of $525,004, offset in part by capital lease payments of $54,722. For the year ended December 31, 2011, net cash provided by financing activities was $2,046,338. Cash was provided by the sale of 597,542 shares of our Common Stock for cash proceeds of $1,972,241, the issuance of two notes payable for aggregate proceeds of $3,000,000, $1,000,000 provided by the sale of 10,000 shares of the Company's redeemable preferred series C stock, and advances from a stockholder in the amount of $300,000. These amounts were offset in part by the use of $3,419,715 of cash to repurchase 1,179,212 shares of our Common Stock from a greater than 10% stockholder and repayment of $1,000,000 of notes payable.

Critical Accounting Policies and Estimates

Use of Estimates

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America ("GAAP") requires us to make estimates and assumptions that affect the amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Our significant estimates include reserves related to accounts receivable and inventory, the recoverability and useful lives of long-lived assets, the valuation allowance related to deferred tax assets, the valuation of equity instruments and debt discounts, and the valuation of acquired assets.

Allowance for Doubtful Accounts Receivable

Accounts receivable are shown net of an allowance for doubtful accounts. We established an allowance for doubtful accounts sufficient to cover probable and reasonably estimable losses. The nature of the business is that the majority of the payments are made before the product is sent. If the financial conditions of customers were to materially deteriorate or the nature of the business was to change from prepayment to post payment an increase in the allowance amount could be required. The allowance for doubtful accounts considers a number of factors, including collection experience, current economic trends, estimates of forecasted write-offs, aging of the accounts receivable, and other factors.

Inventory

Inventories consist of finished goods and are valued at the lower of cost or market with cost determined using the first-in, first-out method and with market defined as the lower of replacement cost or realizable value. As part of the valuation process, inventory reserves are established to state excess and slow-moving inventory at their estimated net realizable value.

Property and Equipment

Property and equipment are stated at cost. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets. Expenditures for maintenance and repairs, which do not extend the economic useful life of the related assets, are charged to operations as incurred. Gains or losses on disposal of property and equipment are reflected in the statements of operations in the period of disposal.

Intangible Assets

Intangible assets are recorded at cost except for assets acquired using acquisition accounting, which are initially recorded at their estimated fair value. Intangible assets with definite lives are comprised of customer relationships. Amortization is computed on a straight-line basis over the estimated useful lives of the intangible assets.

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Impairment of Long-Lived Assets

We review the carrying value of intangibles and other long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of long-lived assets is measured by comparing the carrying amount of the asset or asset group to the undiscounted cash flows that the asset or asset group is expected to generate. If the undiscounted cash flows of such assets are less than the carrying amount, the impairment to be recognized is measured by the amount by which the carrying amount of the property, if any, exceeds its fair value.

Website Development Costs

Website development costs associated with upgrades or enhancements are capitalized, whereas costs associated with maintenance are expensed. Capitalized costs are amortized over their useful life.

Income Taxes

Deferred tax assets and liabilities are determined on the basis of the difference between the tax basis of assets and liabilities and their respective financial reporting amounts ("temporary differences") at enacted tax rates in effect for the years in which the temporary differences are expected to reverse. GAAP prescribes a recognition threshold and measurement process for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. We do not expect any significant changes in the unrecognized tax benefits within twelve months of the reporting date. We classify interest expense and any related penalties related to income tax obligations as a component of income tax expense.

Debt Discounts

We record, as a discount to notes and convertible notes, the relative fair value of any warrants issued in connection with the issuances and the intrinsic value of any conversion options based upon the differences between the fair value of the underlying common stock at the commitment date of the note transaction and the effective conversion price embedded in the note. Debt discounts under these arrangements are amortized to interest expense over the earlier of the term of the related debt or their earliest date of redemption.

Revenue Recognition

Revenues for the sales of products are recognized when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed and determinable and collectability is reasonably assured.

Net Loss Per Share of Common Stock

Basic net loss per share is computed by dividing net loss attributable to common stockholders by the weighted average number of common shares outstanding during the period. Diluted net loss per share reflects the potential dilution that could occur if securities or other instruments to issue common stock were exercised or converted into common stock. Potentially dilutive securities are excluded from the computation of diluted net loss per share if their inclusion would be anti-dilutive.

Stock-Based Compensation

Stock-based compensation expense for all stock-based payment awards is based on the estimated fair value of the award. For employees and directors, the award is measured on the grant date. For non-employees, the award is measured on the grant date and is then remeasured at each vesting date and financial reporting date. We recognize the estimated fair value of the award as compensation cost over the requisite service period of the award, which is generally the option vesting term. Option valuation models require the input of highly subjective assumptions. Through June 30, 2011 and prior periods, the fair value of stock-based payment awards was estimated using the Black-Scholes option model with a volatility figure derived from an index of historical stock prices of comparable entities until sufficient data existed to estimate the volatility using our own historical stock prices. Beginning in July 2011, we began to use the historical trading prices of our own common stock as a component in the calculation of an estimated volatility figure to determine the fair value of stock-based payment awards using the Black-Scholes model. We determined this assumption to be a better indicator of value. We account for the expected life of options in accordance with the "simplified" method which enables the use of the simplified method for "plain vanilla" share options as defined in Staff Accounting Bulletin No. 107. The risk-free interest rate was determined from the implied yields of U.S. Treasury zero-coupon bonds with a remaining life consistent with the expected term of the options.

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Preferred Stock

Preferred shares subject to mandatory redemption (if any) are classified as liability instruments and are measured at fair value. We classify conditionally redeemable preferred shares, which includes preferred shares that feature redemption rights that are either within the control of the holder or subject to redemption upon the occurrence of uncertain events not solely within our control, as temporary equity. At all other times, we classify our preferred shares in stockholders' deficiency.

Convertible Instruments

GAAP requires companies to bifurcate conversion options from their host instruments and account for them as free standing derivative financial instruments according to certain criteria. The criteria include circumstances in which (a) the economic characteristics and risks of the embedded derivative instrument are not clearly and closely related to the economic characteristics and risks of the host contract, (b) the hybrid instrument that embodies both the embedded derivative instrument and the host contract is not re-measured at fair value under otherwise applicable generally accepted accounting principles with changes in fair value reported in earnings as they occur and (c) a separate instrument with the same terms as the embedded derivative instrument would be considered a derivative instrument. An exception to this rule is when the host instrument is deemed to be conventional, as that term is described under applicable GAAP.

When we determine that the embedded conversion options should not be bifurcated from their host instruments, we record, when necessary, discounts to convertible notes for the intrinsic value of conversion options embedded in debt instruments based upon the differences between the fair value of the underlying common stock at the commitment date of the note transaction and the effective conversion price embedded in the note. Debt discounts under these arrangements are amortized over the term of the related debt to their stated date of redemption. We also record, when necessary, deemed dividends for the intrinsic value of conversion options embedded in preferred shares based upon the differences between the fair value of the underlying common stock at the commitment date of the transaction and the effective conversion price embedded in the preferred shares.

Common Stock Warrants and Other Derivative Financial Instruments

We classify as equity any contracts that (i) require physical settlement or net-share settlement or (ii) provide us with a choice of net-cash settlement or settlement in our own shares (physical settlement or net-share settlement) providing that such contracts are indexed to our own stock. We classify as assets or liabilities any contracts that (i) require net-cash settlement (including a requirement to net cash settle the contract if an event occurs and if that event is outside our control) or (ii) gives the counterparty a choice of net-cash settlement or settlement in shares (physical settlement or net-share settlement). We assess the classification of our common stock purchase warrants and other free standing derivatives at each reporting date to determine whether a change in classification between assets and liabilities is required.

Recently Issued Accounting Pronouncements

In May 2011, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2011-04, "Fair Value Measurement (Topic 820) - Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs." This ASU addresses fair value measurement and disclosure requirements within Accounting Standards Codification ("ASC") Topic 820 for the purpose of providing consistency and common meaning between U.S. GAAP and IFRSs. Generally, this ASU is not intended to change the application of the requirements in Topic 820. Rather, this ASU primarily changes the wording to describe many of the requirements in U.S. GAAP for measuring fair value or for disclosing information about fair value measurements. This ASU is effective for periods beginning after December 15, 2011 and did not have a material impact on our consolidated financial statements or disclosures.

In April 2013, the FASB issued ASU No. 2013-07, "Presentation of Financial Statements (Topic 205) - Liquidation Basis of Accounting." This ASU addresses the requirements and methods of applying the liquidation basis of accounting and the disclosure requirements within ASC Topic 205 for the purpose of providing consistency between the financial reporting of U.S. GAAP liquidating entities. Generally, this ASU provides guidance for the preparation of financial statements and disclosures when liquidation is imminent. This ASU is effective for periods beginning after December 15, 2013 and would only have an impact on our consolidated financial statements or disclosures if liquidation became imminent.

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